The following article is a guest post by Will Sheard, Director, Due Diligence & Analysis, K2 Management, discussing the ScotWind seabed leasing round in Scotland, for which the application period closed last week and which saw multiple companies and consortia filing their bids.
The conclusion of Crown Estate Scotland’s (CES) review into the option structure for ScotWind Leasing, for which applications closed on 16 July, has been met with much less debate than might have been expected.
In March, CES announced that while ScotWind Leasing will keep the same basic pricing structure for option agreements in its seabed auction, the maximum fee that can be paid per km2 of seabed would increase to £100,000, up a factor of 10 on the previous maximum.
In addition, CES said that the threshold of Supply Chain Development Statement commitments – essentially the amount that developers must invest in the supply chain in Scotland, as a percentage of the wind project’s overall development cost – was also increasing, from 10% to 25%.
These outcomes, published in March, followed a review through February, triggered by what CES said were “recent changes seen in the UK offshore wind market” that meant it needed to “arrive at a pricing structure which properly reflects those changes”.
CES had evidently looked upon the prices announced at Round 4 of the UK’s offshore wind leasing programme – which saw huge demand for seabed in English and Welsh waters, raising £879million per annum in option fees – and hastily launched its review. The conclusion was that maximum fees would be increased for ScotWind Leasing in response to anticipated high demand.
But there are potential problems with this that don’t seem to have generated much clamour or attention – which is surprising, especially as the review poses more risk for developers around the leasing process.
And perhaps more significantly, albeit further down the line, there is the chance that the capital costs to overcome the challenges of developing wind farms in this region, coupled with higher option fees, could have a detrimental impact on the levelised cost of energy.
Let’s take a look at the challenges in turn.
Firstly, the seas around Scotland present greater challenges for wind projects than seas in the south of the UK. Yes, wind is abundant, but developing offshore in vast swathes of the 8,600km2 that CES is making available is made complex by the geography and orography: the water is deep and the seabed conditions are more challenging.
In turn, this means that development costs will be significantly higher and for that reason, it is less likely that developers will be willing to sink big capital into seabed leases when the challenges to farm the wind in this region make project development much more expensive.
Then there is the supply chain development threshold – which now sits at 25% of any projects’ expenditure, up from 10%. While developers should absolutely look to maximise the amount of local content that their applications include, ScotWind’s demands on this front could add even more cost for developers, pushing them to procure more supply chain services from a less competitive marketplace.
While domestic supply chains get up to speed, to facilitate multi-GW projects of such scale, that could push costs up.
The most likely ramification of CES’ changes to the option structure is the opening it presents for oil and gas majors. Indeed, it is the emergence the O&G majors in the renewables market which is pushing up seabed prices. The higher caps affords them the opportunity to price smaller companies out of the auctions. According to newspaper reports, BP – for one – has indicated it is planning a joint bid with EnBW for ScotWind.
But that then prompts questions around return on investment and how much energy generated by ScotWind projects will cost. If capital expenditure costs – from leasing the seabeds, to installing infrastructure in complex and challenging conditions, to securing more component parts in the UK – are high, will this be reflected down the line in Power Purchase Agreements?
That in turn leads to the final – and perhaps most significant – point around how CES plans to differentiate each application. There is the possibility, of course, that a number of companies bid the maximum for the more attractive plots of seabed – and in that scenario, how does CES differentiate between the better applications?
Meanwhile, it could also be the case that the lower bids are the better ones – but they could end up losing out simply because they can’t match the funds being tabled by the energy sector’s big guns.
It’s a curious situation. On the one hand, it’s understandable for CES to ensure it derives maximum value from this process: it’s money that goes into the public purse to spend, in part, on funding the UK and Scotland’s green energy ambitions.
Yet on the flipside, it means that those with the deepest pockets will likely win out in a seabed land-grab, that will struggle to differentiate on the merits of an application if lots of maximum bids come in.
With applications to the auction now closed, it seems these elements in the debate around ScotWind leasing have been a little swept away by the wind. Time will tell now as to whether raising the maximum cap is really in the best interests of Scotland’s offshore wind sector.
It certainly presents additional challenges for bidders, but if as a result, CES generates greater revenues that can be reinvested into the Scottish energy sector, then there is every chance that there will be some equally positive outcomes from the leasing process.